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Behavioral Finance

Behavioral Finance. Economics 437. Concurrent Decisions:. Choose Between: A: A sure gain of $ 240 B: 25 % gain of $ 1,000 and 75 % chance to gain nothing Choose Between: C: A sure loss of $ 750 D: 75 % chance to lose $ 1,000 and 25 % chance to lose nothing. Oops. Choose Between:

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Behavioral Finance

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  1. Behavioral Finance Economics 437

  2. Concurrent Decisions: • Choose Between: • A: A sure gain of $ 240 • B: 25 % gain of $ 1,000 and 75 % chance to gain nothing • Choose Between: • C: A sure loss of $ 750 • D: 75 % chance to lose $ 1,000 and 25 % chance to lose nothing

  3. Oops • Choose Between: • A: A sure gain of $ 240 • B: 25 % gain of $ 1,000 and 75 % chance to gain nothing • Choose Between: • C: A sure loss of $ 750 • D: 75 % chance to lose $ 1,000 and 25 % chance to lose nothing • If you chose A & D: • 25 % gain of $ 240 and 75 % chance to lose $ 760 • {B & C} dominates {A & D} • 25 % gain of $ 250 and 75 % chance to lose $ 750

  4. Make a choiceYou have been given $ 2,000 • Choose between A and B • A: 50 % chance of losing $ 1,000 or receiving nothing • B: A sure loss of $ 500

  5. Make a choiceYou have been given $ 1,000 • Choose between C and D • C: 50 % chance of winning $ 1,000 or receiving nothing • D: A sure $ 500

  6. Make a choice • Choose between A and B (assuming you have been given $ 1,000) • A: 50 % chance of winning $ 2,000 • B: A sure gain of $ 500 • Choose between C and D (assuming you have been given $ 2,000) • C: 50 % chance of losing $ 1,000 or receiving nothing • D: A sure loss of $ 500 A and C are identical B and D are identical

  7. Another Choice • Which would you prefer? • A: Certain gain of $ 30 • B: 80% chance to win $ 45 and 20% chance to win $ 0

  8. Another • C: 25 % chance to win $ 30 and 75 % chance to win nothing, or • D: 20 % chance to win $ 45 and 80 % chance to win nothing

  9. And again • A Two Stage Game • 75 % chance of ending the game winning nothing and 25 % chance of going to second stage of the game • At second stage • R:Certain win of $ 30, or • S:80% chance to win $ 45 and 20% chance to win nothing

  10. 25 % chance to win $ 30 and 75 % chance to win zero • 20% chance to win $ 45 and 80% chance to win zero Must choose A or B before stage one • [A certain win of $ 30] • [80 % chance of winning $ 45 and 20% chance of winning zero] 25% Game ends, you win zero 75%

  11. Two kinds of schools • School A has 65 % boys; 35 % girls • School B has 45 % boys; 55 % girls • A class has 55 % boys: Which school is it most likely to be taken from?

  12. The problem of “future preferences” (not preferences about the future) • Imagine • One trip to the store to purchase for the entire week • Seven daily trips to the store during the same week • Significantly more variety in the “one trip” case than the sequential trip case

  13. Framing possibilities with intertemporal choice • You purchase a TV set on installment plan • Choose: (later payment is in six months) • A. An initial payment of $ 160 and a later payment of $ 110 • B. An initial payment of $ 115 and a later payment of $ 160

  14. Framing possibilities with intertemporal choice • You purchase a TV set on installment plan. You pay $ 200 now and $ 200 in six months • Choose: • C. A rebate of $ 40 on the initial payment and a rebate of $ 90 on the later payment • D. A rebate of $ 85 on the initial payment and a rebate of $ 40 on the later payment

  15. Usual outcome • 54 percent preferred A to B • Only 33 percent preferred C to D

  16. The End

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